Plaintiffs v Defendants

2 By interlocutory process filed 19 August 2014, the liquidator sought an order under s 477(2B) of the Act for approval to enter into a litigation funding agreement with Fingal Developments Pty Ltd and Ryeland Nominees Pty Ltd. Fingal and Ryeland are controlled by Mr Neville, who was a joint venture partner with Mr Leggo and others in a property development undertaken by the company. The purpose of the proposed funding arrangement is to enable him to conduct the proceeding against Nom De Plume and Mr Leggo, and presumably meet any obligations to provide security for costs.

3 Section 477(2B) of the Act provides:

Except with the approval of the Court, of the committee of inspection or of a resolution of the creditors, a liquidator of a company must not enter into an agreement on the company's behalf (for example, but without limitation, a lease or a an agreement under which a security interest arises or is created) if:

(a) without limiting paragraph (b), the term of the agreement may end; or

(b) obligations of a party to the agreement may, according to the terms of the agreement, be discharged by performance;

more than 3 months after the agreement is entered into, even if the term may end, or the obligations may be discharged, within those 3 months.

4 The liquidator has already obtained the approval of the creditors, but sought the approval of the court. He submitted that it was desirable to obtain court approval to avoid an anticipated challenge by the defendants under s 477(6) of the Act, which provides:

The exercise by the liquidator of the powers conferred by this section is subject to the control of the Court, and any creditor or contributory, or ASIC, may apply to the Court with respect to any exercise or proposed exercise of any of those powers.

Nom De Plume is a creditor, and Mr Leggo is a contributory.

5 A number of affidavits were filed in support.[1] Timothy Bryce Norman, an official liquidator and partner of Mr Wallace-Smith, deposed that he believed it was in the interests of the company and its unsecured creditors that Mr Wallace-Smith enter into the proposed funding arrangements. Mr Wallace-Smith was overseas on annual leave at the time.

6 The principal affidavit of Mr Wallace-Smith was also filed on the same day. It had been sworn before a Notary Public in the State of Hawaii. He deposed that he was continuing to investigate whether it was in the interests of creditors to also bring a claim against Mr Leggo for breach of his duty as a director of the company. He made reference to a charge that had been granted by the company to Fingal in October 2007, and said that it was not in the interests of unsecured creditors to seek to set aside the Fingal charge. He explained that he may not be able to establish that the company was insolvent at the time the charge was granted.

7 Fingal was the plaintiff in proceeding 2012/1299. The defendants in that proceeding were Nom De Plume and the company. On 20 February 2015, Sifris J upheld the validity of the Fingal charge.[2] His Honour's decision is now the subject of an appeal, which has been heard but not yet decided.

8 There is an overlap in issues between the Fingal proceeding and this proceeding. Part of the claim made under the deed of settlement in this proceeding is for the amount secured by the charge. The amount payable is yet to be assessed in the Fingal proceeding. Thus, both proceedings involved claims in favour of Fingal under its charge. While the Fingal proceeding the claim is yet to be assessed, in this proceeding it is valued at $3,535,731. If the liquidator succeeds in his claim in this proceeding, Fingal will benefit as a secured creditor ahead of unsecured creditors, provided it holds the judgment of Sifris J in the Court of Appeal. If not, Fingal will be an unsecured creditor and, in all likelihood, required to disgorge funds already received and retained under the charge.

9 This is not the first application by the liquidator for court approval of litigation funding provided by Fingal and Ryeland. Under an earlier iteration of the funding agreement, the liquidator agreed not to make, bring or support any application or proceeding to set aside, avoid or otherwise challenge the enforceability of the Fingal charge. Randall AsJ granted approval to the liquidator entering into the agreement, but was overturned on appeal to Robson J, who held:[3]

1. There is another aspect of the Funding Deed that I consider is a relevant factor to take into account in considering the liquidator's application for approval. The liquidator is to act for the benefit of all creditors without fear or favour. In this case, the joint venture parties have fallen out. The Fingal proceeding involves a claim by a company associated with Mr Melville (Fingal) against a company associated with Mr Leggo (NDP). Mr Melville, through his company, seeks to finance the liquidator of AVSS to pursue a claim against Mr Leggo and NDP for the primary benefit of Fingal, as Fingal will have priority rights as a secured creditor to any moneys recovered. A term of that finance is that the liquidator will not challenge the Fingal charge despite the possibility that AVSS was insolvent when the charge was created, and the possibility that the charge was created to defeat the interests of the unsecured creditors. Thus, Mr Melville (and those joint venturers siding with him) have been able to sue NDP directly in the Fingal proceeding, and put pressure on NDP and Mr Leggo through the liquidator suing them in the AVSS proceeding, while at the same time preventing an attack by the liquidator on the Fingal transactions which are the very securities that support the Fingal proceeding.

1. For the reasons canvassed, I do not consider that it is in the interests of the liquidation to approve the Funding Deed. I would refuse the application and uphold this ground of appeal.

10 As a consequence, the terms of the proposed funding agreement were modified to remove the restriction. I do not, however, regard the deletion of the negative covenant to successfully eliminate the vice identified by Robson J. The liquidator required Ryeland's consent to prosecute claims. Under the present draft, Ryeland retained the right to terminate the agreement on 28 days' notice. Counsel for the liquidator conceded that notwithstanding the amendment, the funding parties would almost certainly terminate if the liquidator were to challenge the Fingal charge. The liquidator's inclination or ability to challenge the charge is only one aspect of the vice identified by Robson J.

11 Having regard to the decision of Sifris J in the Fingal proceeding, any further opportunity to challenge the Fingal charge must be limited.[4] Nevertheless, the liquidator proposed to enter into an agreement under which the holder of the contentious charge, and former joint venture partner of Mr Leggo, remained in a position to control the nature and scope of future litigation through the power of approval and termination. The liquidator is unable to function at "arm's length" from the litigation funders, whose purpose is not confined to profit from a commercial transaction. The ability of Mr Melville to control the litigation commenced by the liquidator compromises the liquidator's duty to the company and unsecured creditors. I would refuse the application on this basis alone.

12 In most other respects the terms of the agreement were unexceptional, but not all. There was an unusually high (40 per cent) profit after recovery of all costs paid, and an agreement by Fingal to forego $80,000 of any dividend to make sure other creditors would get something. In so doing, the litigation funder acknowledged the possibility that, but for the concession, unsecured creditors may get nothing.

13 Under cl 3.1 of the funding agreement, Ryeland agreed to indemnify the liquidator and the company against all claims for which the liquidator or the company may become liable in respect of 'Action Costs'. Action Costs was defined as all legal costs, expenses and disbursements reasonably incurred by the liquidator or the company in the institution and prosecution of the 'Action'. Action was defined to include any legal proceeding that may be instituted by the liquidator and/or the company in a court to which Ryeland has consented.

14 Under cl 3.8, Ryeland agreed to indemnify the liquidator against all 'Adverse Costs'. Such costs were defined to include any costs order made by a court in any Action for which the liquidator or the company was liable. Under cl 4.1, Ryeland could terminate the funding deed on not less than 28 days' written notice. There was also provision for termination by the liquidator and the company. If the funding deed was terminated, Ryeland remained liable to the liquidator and Company up to the day of termination.

15 Clauses 8.1 to 8.6 concerned applications for security for costs. The general effect of these provisions was that if an application for security was made, the funding deed terminated unless the funder provided the security.

16 Clauses 9.1 to 9.5 deal with reimbursement of Ryeland and its profit. In substance, Ryeland is entitled to recover from the assets of the company all payments advanced to the liquidator and, in addition, a Funding Fee of 40 per cent of the Net Proceeds, which is the amount recovered in any action less Action Costs. Fingal agreed to guarantee the due and prompt performance of Ryeland's obligations under the funding arrangement.

17 At the threshold of its application, the liquidator urged the court to refuse to hear the defendants on this application. He argued that the defendants had no standing before the court to oppose the application for approval. He acknowledged that the defendants had been given notice of the application, and had participated in all directions hearings. They had filed material in opposition. The liquidator conceded that he had only recently become aware of the opportunity to exclude the defendants from participating at this hearing on the ground that they lacked standing.

18 In my opinion, the stated rationale for the belated application was opportunistic, flawed, and is rejected. The liquidator did not require court approval under s 477(2B), but submitted that he was unwilling to proceed with the proposed funding arrangement, based only on approval by the creditors. In his opinion there was a risk that one or other of the defendants, as a contributory or creditor of the company, would challenge the decision under s 477(6). He hoped to sidestep that possibility by making application for court approval, while attempting to exclude the defendants from participation on the basis that they had no relevant right, interest or expectation to support their participation.

19 The liquidator relied on Deloughery v Weston, [5] in which Giles JA and Handley AJA said, in relation to an application to approve litigation funding:

1. ... The right to be heard by a judicial officer before an order is made depends on the existence in fact of a relevant right, interest, or expectation that would or might be affected by the order. Where this is doubtful a judicial officer may err on the side of caution and allow the party or parties concerned to be heard. However if the judicial officer decides, correctly, that such a party has no relevant right, interest or expectation that partly has no right to be heard. The right depends on the existence in fact of a relevant right, interest or expectation. There is no such thing as a free standing right to be heard.

20 It is disappointing that a liquidator would find it necessary to resort to such a strategy. Furthermore, the objection to the standing of the defendants is entirely without merit. Putting to one side service of the interlocutory process on the defendants, their consensual participation in directions made for the purpose of this application, the fact that they filed affidavits without objection, and the assistance they might provide as a contradictor, I am satisfied that the defendants have a relevant interest in the application and its outcome. Nom De Plume is a creditor, and Mr Leggo is a contributory in the company. Both have standing under s 477(6) to make application to challenge the conduct of a liquidator in the exercise of a power. The liquidator seems to contend that this right ceases to exist when application for approval is made under s 477(2B).

21 The interest of the defendants in the subject matter and outcome of this application does not, however, rest upon the statutory right under s 477(6). Nom De Plume was a defendant in the Fingal proceeding. The company was also a defendant, and is a respondent to the appeal brought by Nom De Plume in the Court of Appeal. The Fingal proceeding concerned the obligation to advance funds on which the liquidator now relies to bring its claim under cl 3.1 of the deed of settlement against the defendants. Both proceedings concern the extent of Fingal's rights under the charge.

22 The defendants' objection to approval also raised a number of important factors. In the absence of the defendants, it is doubtful that some of these matters would have been brought to the court's attention. The defendants contended that it was not appropriate for this court to approve the funding of litigation in which the viability of some allegations depend upon the outcome of an unresolved appeal. They submitted that, at the very least, the application was premature, and should await the outcome of the appeal, because the formulation of the liquidator's claims depends on it. I agree, but that was not the only ground of objection.

23 The defendants went further and contended that this proceeding is an abuse of process, because it involves the use by Fingal of a separate proceeding, through the liquidator, to obtain a remedy, should it have one, available to it in the Fingal proceeding. While the matter was not fully explored on this application, there is a substantial overlap between the purpose and claims in the Fingal proceeding and the purpose and claims in this proceeding. Both seek to recover the same amount claimed to be due to Fingal. Then there are the alternate claims against Mr Leggo. Those claims are predicated on proof of insolvency which, if established by the liquidator, may provide him with an opportunity to advance the interests of unsecured creditors by challenging the Fingal charge. There is no need to resolve the consequence of overlap between the proceedings, and the question of whether this proceeding is an abuse of process, on this application. The allegations are at least arguable, and the defendants have every right to raise them by way of objection to the liquidator's application for approval.

24 In my opinion, the defendants have a real interest in the performance by the liquidator of his duty to the company and unsecured creditors. They have an interest in the validity of the Fingal charge, and the status of Fingal as a secured creditor. They have an interest to ensure that a proceeding brought against them is not an abuse of process. In any event, notice was given to the defendants, as respondents to the interlocutory process. The defendants have participated in each directions hearing leading to this application, and filed affidavit material. The issues arising on this application are contentious, and the court is assisted by a contradictor.

25 In exercising the power under s 477(2B), the court does not simply 'rubber stamp' whatever is put forward by a liquidator.[6] An overriding duty of a liquidator is to serve the interests of the creditors as a whole.[7] Court approval is not to be taken as an endorsement of a proposed agreement, but merely permission for the liquidator to exercise his or her own commercial judgement.[8] It is important to ensure that the litigation funder is not given the benefit disproportionate to the risk undertaken, or a 'grossly excessive profit'.[9] In Leigh re King Bros,[10] Austin J summarised relevant factors to the court's exercise of discretion to approve a funding agreement:

In summary (rearranging the order of presentation adopted in the ACN case), the relevant factors include the following:

(i) the liquidator's prospects of success in the litigation;

(ii) the interests of creditors other than the proposed defendant;

(iii) possible oppression in the bringing of the proceedings;

(iv) the nature and complexity of the cause of action;

(v) the extent to which the liquidator has canvassed other funding options;

(vi) the level of the funder's premium;

(vii) the liquidator's consultations with creditors;

(viii) the risks involved in the claim (including the amount of costs likely be incurred in the proposed litigation, the extent to which the funder is to contribute to those costs, and the extent to which the funder is to contribute to the costs of the defendant in the event that the action is not successful, or towards any order for security for costs).

26 The liquidator submitted that the application 'ticked all the boxes' for approval. He submitted there were reasonable prospects of success; in the absence of a funding agreement, unsecured creditors would receive nothing; there was no oppression in bringing a proceeding; the causes of action were not unduly complex; other funding options had been investigated and the proposal put forward by Fingal and Ryeland was the only proposal on the table. The liquidator submitted that the funder's premium was within an acceptable range; the creditor's had been consulted and approved; and the risks involved in the claim were adequately addressed.

27 The liquidator submitted that there was no evidence that established lack of good faith, some error in law or principle, or real and substantial grounds for doubting the prudence of the liquidator's conduct in negotiating the funding arrangement. He submitted that without the funding arrangement there would be no return for unsecured creditors. The liquidator contended that he had a good claim against the defendants, having obtained advice from solicitors and counsel, and Sifris J had upheld the validity of the Fingal charge.

28 The liquidator drew a distinction between the terms of the new agreement and the earlier agreement, rejected by Robson J, which contained an express condition requiring the liquidator 'not to make, bring or support any application or proceeding to set aside, avoid or otherwise challenge the enforceability of the Fingal charge'. I have already rejected that submission.

29 The liquidator submitted that the terms of the funding deed were not uncertain or inconsistent and that, apart from Fingal, the principal creditors of the company were not prepared to fund the proceeding against the defendants. The liquidator has made enquiries of other litigation funders. Mr Wallace-Smith deposed that he had received a written offer from LCM Litigation Fund Pty Ltd on 24 July 2014, although he was unable to conclude an agreement. The reasons for the failed negotiation were incomplete. Mr Wallace-Smith was reluctant to go into detail about negotiations, or the basis upon which he calculated the estimated return for unsecured creditors. His reluctance in that regard was unhelpful.

30 Mr Wallace-Smith said that he had considered alternative outcomes in the litigation and the potential returns to creditors, having regard to certain assumptions. He declined to set out the assumptions or calculations, claiming confidentiality and litigation privilege. He said that the return to creditors would be affected by such matters as the quantum of the debt found to be due to a major creditor, the extent of damages recoverable for breach of the settlement deed, and matters such as which creditors would be entitled to prove for a dividend either as a secured or unsecured creditor. He deposed:

Having regard to several pessimistic assumptions as to outcomes unsecured creditors may receive a return of up to 16 cents in the dollar should I succeed in the action.

There was other evidence to suggest that the return might be higher, or as low as 3 cents in the dollar with the Fingal payment of $80,000.

31 Mr Wallace-Smith said that he had not sought to address, in negotiations with Ryeland, how any funds recovered on a successful prosecution of the action, would be distributed to creditors after payment of costs. On one view, proceeds from insolvent trading claims would benefit unsecured creditors, while damages for breach of the settlement deed may benefit the secured creditor under the Fingal charge. He acknowledged that unsecured creditors might contend that the benefit from a judgment for breach of the settlement deed might fall outside the scope of the security. He proposed to seek further directions from the court should it become necessary following the successful prosecution of the claims.

32 In an affidavit filed 6 October 2014, Mr Wallace-Smith deposed to further enquiries made of another independent litigation funder following a hearing on 27 August 2014. In all cases, a claim privilege was made in relation to such negotiations.

33 Mr Wallace-Smith also deposed to a meeting of creditors, held on 2 October 2014, at which the creditors resolved:

that Simon Wallace-Smith as liquidator of Ascot Vale Self Storage Centre Pty Ltd be permitted to enter into a funding deed on behalf of the company with Fingal Developments Pty Ltd, Ryeland Nominees Pty Ltd and/or LCM in relation to the proceeding and such other claims as the liquidator may determine.

The resolution was carried by 100 per cent of the creditors in attendance. While unsecured creditors, faced with the prospect of no return, or a possible small return if the proceeding is successful, would be inclined to approve such an agreement, as they did, the liquidator is not content with their approval.

34 By a further affidavit sworn on 1 October 2015, Mr Wallace-Smith deposed that the Ryeland litigation funding proposal remained open to be accepted, confirming that there was no longer any requirement restricting him from seeking to set aside the Final charge. He also deposed that he continued to explore other funding possibilities.

35 The defendants objected to any order for approval on grounds set out above. They alleged the proceeding was an abuse of process because of the overlap with the issues in the Fingal proceeding, and the fact that the liquidator was advancing a position in this proceeding that was inconsistent with the position advanced in the Fingal proceeding. That line of reasoning depended upon aligning the litigation interests of Mr Melville in each proceeding as dominant. I am not persuaded that the inconsistent positions identified by the defendants necessarily impugns the conduct of the liquidator, although if made out, might tend to support the abuse of process ground if and when advanced by the defendants.

36 While it is unnecessary to resolve that allegation on this application, the overlap between the proceedings is sufficient to raise questions about the judgment of the liquidator in commencing this proceeding, and in making this application. The issue determined by Sifris J in the Fingal proceeding will, if upheld on appeal, eliminate a highly contentious issue between Fingal and Nom De Plume. Any application for litigation funding for this proceeding should, in my opinion, await the outcome of the appeal. Furthermore, the outcome of the appeal may not prevent a challenge to the security by the liquidator, although the litigation funder would almost certainly prevent such a course.

37 The defendants complained that the liquidator had failed to adequately explain the basis upon which the creditors as a whole would benefit from the proceeding. They pointed out that under the proposed funding arrangement the only guaranteed benefit to unsecured creditors was 3 cents in the dollar. They argued that the apparent purpose of the proceeding was to prefer the interests of a secured creditor over those of unsecured creditors. They complained about the amount of the fee payable to Ryeland. While the fee may be acceptable for an "arm'slength" litigation funder, Fingal and Ryeland have different objectives which bear upon the appropriateness of the fee, or indeed the appropriateness of any fee at all in such circumstances. After all, this was not an arm'slength commercial agreement.

38 I am not disposed to grant the approval sought by the liquidator. It is at least premature. The level of uncertainty about the potential return to creditors is not assisted by the liquidator's reluctance to provide information, even on a confidential basis, about his assumptions and calculations.

39 I am not satisfied on the available information that any estimate has a rational foundation. The concession made by Mr Melville, on behalf of Fingal and Ryeland, to subordinate any claim of Fingal to payment of a dividend in the liquidation up to $80,000, so as to provide a dividend to arm'slength unsecured creditors of up to 3 cents in the dollar, would suggest great pessimism in the prospects for unsecured creditors after costs and the Ryeland fee.

40 While the draft funding deed no longer contains a provision binding the liquidator not to challenge the Fingal charge, it is impossible to ignore the fact that Ryeland must approve any proceeding and can terminate the agreement. They are motivated to generate funds for the benefit of Fingal, which at present has the advantage of a judgment of this court supporting the validity of its Charge. The independence of the liquidator is compromised by the ability of the litigation funder to control the litigation.

41 I am not persuaded that the proposed funding agreement is for the benefit of unsecured creditors. The application is refused.

[1] Affidavits were filed by Timothy Bryce Norman sworn 8 August 2014, Mr Wallace-Smith sworn 8 July, 26 August and 3 October 2014, 1 October and 26 October 2015, Justin Patrick Evans sworn 27 August 2014 and Michael Edward Lhuede sworn 9 July and 26 August 2015. Not all affidavits were relied on by the liquidator. The defendants filed two affidavits of Andrew Schneider.

[2] Fingal Developments Pty Ltd v Nom De Plume Nominees Pty Ltd [2015] VSC 44.

[3] [2014] VSC 75 (emphasis added).

[4] It was suggested that the liquidator was not bound by the decision in the Fingal proceeding.

[5] Deloughery v Weston [2010] NSWCA 148; 79 ACSR 180; at [36].

[6] Re Spedley Securities Ltd (In Liquidation) (1992) 9 ACSR 83.

[7] Australian Securities and Investments Commission v Edge [2007] VSC 170, [42].

[8] Re Stewart [2007] FCA 1375.

[9] Anstella Nominees Pty Ltd v St George Motor Finance Ltd [2003] FCA 466; (2003) 21 ACLC 1347, [11].

[10] [2006] NSWSC 315, [25].